Lewisburg's City Council voted on Monday to sell up to $7 million worth of income tax free municipal bonds to investors so the city may refinance a utility debt with a variable interest rate that's backfired because of a financial institution's instability.
The city was "four years into" a complicated debt repayment plan for its original $7 million contract signed in 2002, according to Kevin Barnett, director of public finance with Robert W. Baird & Co. in Nashville. Approximately $835,000 of the principal had been paid off.
That $7 million debt "was to end in 2027," Barnett said of obligations incurred through agreements struck with Morgan Keegan & Co., a financial service that has been the subject of stories here since Feb. 13 and in the New York Times.
Morgan Keegan's deal was secured by American Municipal Bond Assurance Corporation, but AMBAC's portfolio included too much toxic debt from sub-prime mortgages and Moody's Investor's Service downgraded its security rating. That ruined Lewisburg's bond rating. State and federal law cited in bond contracts increased city costs, so the debt is being repaid with new bonds.
"As soon as you authorize the debt, we will execute the bonds," Barnett told the Council on Monday afternoon in City Hall. "At today's market, I've built in 3.75 percent, or about 3.5-4 percent to be locked in..."
The rate Lewisburg would have to pay to J.P. Morgan & Co., the "liquidity agent" that acquired the municipal debt when AMBAC couldn't support its obligation, was "prime plus one," or about 4.25 percent, Barnett said.
However, the payback period was shortened to seven years from 17 and the value of the installment payments increased tremendously as a result of the laws cited in the contracts arranged by Morgan Keegan.
When a representative of the finance firm's Knoxville office presented the contracts to the city several years ago, City Treasurer Connie Edde refused to sign the papers.
"In my opinion, the City of Lewisburg did not need to participate in these types of contracts," Edde said after the Council's meeting this week.
Barnett said the effect of AMBAC's lowered rating was felt "nationwide" by municipalities who found themselves faced with increased debt payments.
"We will also negotiate with AMBAC," Barnett told the Council as he proceeded to explain financial relationships that are being seen by people quoted by the Times as self-serving.
"AMBAC is also the swap-provider," Barnett said of how financial institutions counterbalanced good and bad debts. However, that's "somewhat unusual," he said of AMBAC having the swap contract and serving as the insurer of this deal that has gone sour for the city.
As a result, the financial institutions' weakness adversely affected the city, a fact the mayor noted.
"That was my point," Mayor Bob Phillips told Barnett. "We never missed a payment."
Barnett replied, "That argument is being made universally with different scenarios."
Barnett recommended Lewisburg proceed because interest rates are so low now.
"We may not have this opportunity again," he said before the Council's discussion turned to fees for bailing out of the contracts sold by Morgan Keegan.
"Document-wise," Barnett said, "you're obligated to pay AMBAC. At the end of the day, there will be some payment to AMBAC.
The penalty is approximately $550,000.
"I don't want to pay back a dime," Councilwoman Quinn Brandon said.
Phillips agreed: "I don't either, but if we don't, we might not be able to sell our other bonds."
Lewisburg's purchase of Cornersville's water system for $2 million was funded with a bond anticipation note through a local bank.
Councilman Hershel Davis, chairman of the city's Water and Wastewater Board, moved to have the city proceed as recommended by Barnett. Councilman Odie Whitehead Jr. seconded the motion. The vote was unanimous with Brandon complaining, "I don't like it, but we have no other choice." Councilman Phil Sanders was absent.
"All these things," Phillips said of the contract being paid off, "are written like they are as President Obama said about the credit card industry [documents]; they are not written for clarity.
"While I don't want to do this," the mayor said, "I really, really want to get away from Morgan Keegan."
Barnett repeated his point about other municipalities suffering the same consequences and he added, "You're doing the right thing. The sooner you get away from contract debt where the fine print is important... there's nothing that can come back and bite you."
Since problems arose with AMBAC's failed assurances, the city was contacted by an attorney near Philadelphia who said he'd be willing to represent the city in a lawsuit to avoid payment of fees to get out of that contract and possibly win another award for damages. The case wouldn't have cost the city any fee to the lawyer who would have taken it on a contingency basis, meaning he's not paid if the case fails.
However, litigating the issues would take time and would probably prevent Lewisburg from marketing other bonds, Barnett said.